Total distribution of Roth IRA

[manyhappyreturns]

TP is 52 years old, opened a Roth IRA in 2007, then withdrew the full amount in 2010. It was not a rollover or a conversion. I'm assuming that the amount she contributed can be withdrawn tax-free even though she didn't have the account 5 years and is under 59 1/2 years old, and that she needs to pay tax and also the 10% penalty on the earnings. Am I correct?

[Roland Slugg]

Right you are. This distribution should have been reported on her 2010 return, of course, so if there is a taxable element to the distribution, your client will owe the tax on that, plus the 10% penalty (Code §72(t)), plus interest and late payment penalties on both. I can't imagine this will amount to a whole lot, though, as few people made much of a return on their IRAs between 2007 and 2010.

I'm glad you said that the IRA funds were not a conversion from a traditional IRA. If that were the case, then the 10% early distribution penalty would apply. (Code §408A(d)(3)(F))

Btw, if the woman completely closed out her Roth IRA and got back less than she originally socked away, she can deduct the loss if she itemizes. It's a miscellaneous itemized deduction, subject to the 2% N/D floor.

[manyhappyreturns]

Okay, now the plot thickens. Just talked to the client's husband who said the original distribution was reported as a rollover and therefore not taxed. What precipitated the call was they received a letter from the IRS saying they owed tax plus interest and penalties on the whole amount. He says it may have been a conversion of a traditional IRA to a Roth, but not sure. He refigured the tax based on the amount his wife contributed to the IRA and came up with a figure which was a fraction of what IRS figured, but when I asked him how much of her contribution was taxed already, he didn't know. He said the IRA was opened with a cash gift from her mother, but when I asked him if she had deducted that amount the year it was contributed, he didn't know that either. He said it shouldn't make any difference, but I told him it did, so he's going to try to get that information.

My question now is, if indeed this was a trad to Roth conversion in 2010, can they still opt to pay 1/2 of the tax in 2011 and 1/2 in 2012? Obviously, they didn't file an 8606 in 2010 because they didn't know what they were doing. If they owe the whole amount the IRS says they do, they can't pay it now, so splitting it up between last year and this year would be a big help.

[JohnH]

You need to see all thge paperwork. Copy of thier personal return for the year the original "gift" went into the IRA, copies of statements from the IRA administrator, and copies of the Roth conversion. Sounds like this guy is just trying to come up with an answer he thinks you want to hear in order to keep his tax liability low. I wouldn't rely on anything he says and I'd have to see all the documentation. If he says he can't produce it, then you have another piece of negative information on his reliability. How can he be answering questions when he doesn't have the paperwork?

[Lion]

Do ask for copies of all their tax returns for the years the IRA was open. He can order them from the IRS if he didn't keep them. Paperwork from the opening of the IRA account, everything. Get the paper trail.

I think that for conversions during 2010, the default was for the amounts to add to income 1/2 in 2011 and 1/2 in 2012, so maybe an 8606 wasn't necessary (or generated automatically?).

[FEDUKE404]

Sounds like Traditional IRA to Roth IRA conversion

Someone is terribly confused and/or evasive.

First thing is to see what happened in 2007. There were limits as to what could/could not have been placed into a Roth IRA, IIRC primarily dependent upon MAGI as well as any other separate traditional IRA contributions. You probably should also try to find any relevant Forms 5498 for further clarification.

As for the later Roth IRA "rollover distribution"....that makes little sense. Rollover to what??

It sounds more likely there was a (traditional) IRA account that was closed (Form 1099-R to government) and at some point perhaps "rolled over" to another same or later more likely to a Roth IRA, creating a taxable event.

This is just another one of those situations where you are essentially wasting your time until you have all facts at your disposal. (Statements such as "He refigured the tax based on the amount his wife contributed to the IRA" are a clear indication the client does not really understand the rules.) Then you can hopefully figure out how to fix things.

FE

[manyhappyreturns]

This is all very helpful. Thanks everybody. I'm meeting with the TP tomorrow morning to hopefully get this solved. He's bringing in previous tax returns and IRA account statements, as well as the letter from the IRS, so hopefully we'll have all the info. I think he's being straight-forward, just doesn't understand it all. His wife, though, I don't exactly trust not to try to manipulate the situation to her advantage. Apparently, she was the one who called the distribution a rollover in the first place, possibly because she thought that meant she wouldn't have to pay tax on it. She wanted to meet yesterday, but I was down with a fever, and I'm kind of glad because she works Mon-Fri, so now I'll just be meeting with him.